Tuesday, February 28, 2006

If You Invest Expecting A Greater Fool To Come Along, Guess What. You're The Fool.

I’m a big fan of conspiracy theories; an aficionado of sorts. It’s the scientist in me. I love seeing things that others can’t. I unfortunately am also doomed to be right most of the time. Sometimes I get this terrible gut feeling that something is wrong and I’m the only one who sees it. It’s not paranoia. It’s more insidious. For years I’ve said that Gold is the best investment. Gold at $340 an ounce was, adjusted for inflation, at a 5000 year low when measured against a field of wheat in Samaria or an animal pelt in the Louisiana Purchase. Gold at $590 an ounce is still cheap when you consider a three bedroom home with an attached two car garage on 10,000 square feet is selling for $650,000. I don’t think Gold has peaked. New construction orders have slowed and there’s an upswing in cancellations for unfulfilled contracts. Additionally, the inventory of unsold homes is at a record high. This doesn’t bode well for the speculator with an ARM (adjustable rate mortgage). This is doubly true for those with interest only mortgages. When the balloon payment is due there may be no equity left in the home.

Investment Real Estate has the unfortunate stigma of being fungible without having a spot market. Houses are shelter. For the consumer there is little difference between one house and another. For the speculator there is even less. Sure you can say this house has two bedrooms, a wine cellar, is in a town with a nice school, antique marble bath fixtures, gingerbread moldings, a ham radio antenna and a view of the mountains. Someone might be looking for exactly that and nothing else will satisfy. Most buyers are satisfied with something affordable with enough bedrooms for the kids and a decent school nearby. Any house will do as long as the commute to work isn’t hellish. So for the greater part of the market, houses are fungible, interchangeable. Buyers know this.

Buyers don’t care what sellers have done to justify an asking price higher then the other 1100 square foot two bedroom ranch down the street. A new roof, great, $5000 spent on something that should be regular maintenance anyway. So why is the asking price $30,000 more then the neighbors house? Oh, a fresh coat of exterior paint and in colors I wouldn’t have chosen, again that’s maintenance. It should be done regularly, not just to get ready to sell the house. $3,000 there. New carpets? Carpets do wear out, maintenance again. OK that’s $3,000 more. You’re up to 11 grand. I’ll offer 20 grand less then I’d pay for the house down the street. No takers? OK have fun spending another 230 days on the market.

Sellers on the other hand are absolutely convinced the house is unique, irreplaceable and one of a kind. Their heads are full of stories about rising house prices, a half decade worth of stories. My advice is to get over it. The bubble has popped but since houses aren’t sold via spot market it will take months even years to fully see the trend. It’s easy to point at a bad day trading pig bellies to know when the market has turned against commodities. So the big news is that your house isn’t worth three times what you paid in 1989 simply because it’s a great house. You may have had an equity position that suggested your home tripled in value because outrageous speculation drove up the price of every house in New England. Good luck getting that price now. The fool has left the market place. The greater fool isn’t coming along. Your neighbors who got out last year lost all that equity buying their new house. Take what you can get for your house now. It will still beat riding the equity curve down when all those short term interest only ARMs that fueled most of the speculation call in the balloon payment. Unsold inventory will turn into foreclosures. You think the banks are going to want to sit on unsold inventory? They make their money on interest. Not owning houses. In some cases, their charter or local regulations forbid them from holding inventory too long.

We have high inventory and very soon some extremely motivated sellers. In the mean time, Gold is cheap. Shotguns are cheap too. You’ll need both when hordes of suddenly homeless Real Estate speculators figure out they’ve been made a fool of.

23 Comments:

Dean, great real estate sector update. What do you think of Bank of America and others actively courting illegal aliens for mortgages? They don't show up on population charts. I get the feeling that there are buyers out there for multi's, and less so for single family properties. HMMMM.

Lisa has more people "looking" for multi's that they can owner occupy and have the rent to cover the mortgage but no one is buying. The trouble with the multi's that I see is they're worth more as individual condo's than apartments. Single family properties are going to tank first.

I actually have an idea for a planned condo and apartment community that should appeal to these buyers.

Isn't it illegal to open a banking relationship without a Social Security Number? When I worked for Kidder, Peabody we had to have a Tax ID number for foreign account holders. They're easy to get. I think they tie into the individuals home country in some way. I remember something about Tax Treaty Countries collecting foreign earnings and sharing them with the accounts home country. It's all a big scam.

Still it bothers me that easy credit is handed to criminals but citizens who grew up here have to bring in tax returns and every pay stub and have a perfect relationship with their credit cards for seven years.

I just had a conversation with my boss this morning about roughly this same topic. He said that even though property value has increased at, say, 10% this year, it won't reverse itself, it'll only slow to 1% or maybe a 1/2% growth. I disagreed with him but without a good explanation. What the issue is, as I can divine, has a point in this, that in order to afford a two bedroom apartment in Madison, WI (bloated college town/government seat with lots of federally funded students and pudgy state employees) a person has to make at least $14.50 erstwhile the minium wage is $5.50. Housing costs a lot because everyone built houses and there's an abundance of apartments which are becoming condos. (albiet dirty or finally maintenence-updated) These people who have (recently) built these overpriced houses that don't have the value that their owners are trying to sell them for are asking for reclamation on their Granite countertops and their Marble tiled tri-head, larger than their children's bedroom, shower, next to their whirpool bathtub that comfortably seats four, because they believe, ultimately, that their $400,000 should be $700,000.

I on the other hand think that a few cardboard boxes, soaked in wax and heavily insulated with newspapers (croswords completed) and rat pelts would do the same job in most places.

It's important to look at not only the average cost of a house but the average wage. Right now, there is such a differential between the two that either one must come up or one must go down. Americans already pay three times the purchase price on a 30 year mortgage. I've heard rumors of 50 year mortgages for when the next round of fools enter the market place. So payments become affordable for low wage earners. Sure the monthly payment will be low spread over 50 years. Will consumers put up with it?

We don't manufacture anything. We can't continue to base our economy on doing each others dry cleaning. If wages don't rise what will happen?

And that is just for a market that stays flush. The problem is that much of the recent inflation was fuelled by speculation and cheap mortgage payments. Speculation is allready cooling. Next comes liquidation.

Bank of America opened in Mexico are functional here. They can deposit a check here, and someone else can ATM it out there. This is sobering...

NewsMax.com WiresWednesday, July 20, 2005 While it's illegal to hire undocumented workers, there's nothing wrong with lending them money – in fact, federal and state governments are actually encouraging banks to issue home mortgages to illegal aliens.

Foreigners who are not eligible for Social Security cards can apply to the IRS for an individual tax identification number (ITIN) enabling them to pay taxes. About 8 million ITINs have been issued since 1997 – and an ITIN can be an illegal alien's ticket to a home mortgage.

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